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March 2007

03/26/2007

In March the National People's Congress of China passed a law to take effect in October that legalizes private property and gives it equal status to public property. As a matter of principle this is a revolutionary measure since the abolition of private property is a basic tenet of traditional socialism. However, de facto, China has long ceased to be a socialist country as the private sector has grown rapidly to produce about two-thirds of its GDP.
In 1989 I visited Poland as that country was beginning a transition from a socialist state to one based on private enterprise and private property. In a meeting with the head of the ideology department of the Communist Party, I asked whether private property is consistent with communism and socialism? His answer was that they were still debating that! The Polish Communist Party was shortly afterwards swept out of power before the ideologues could provide an official answer, but China has now given its own answer.
It is clear from the contentious debate over legalizing private property that its official recognition is a major step away from China's claim to be a socialist state. Although a law legalizing private property was proposed years ago, it was delayed until now by vocal opponents who correctly believe that widespread ownership of private property is inconsistent with socialism. Dissent this time, however, was not welcomed, and the 3000 delegates to the Congress overwhelmingly passed the law with only a few votes against. This legalization of private property, when added to the admission not long ago of entrepreneurs into the Communist Party, completes China's official recognition of the dominance of capitalism in its economy.
I will concentrate my remaining comments on likely consequences of the new law for the economic development of China. That nation has had an extraordinary development during the past 30 years, with an average annual growth rate of its GDP exceeding 7 per cent without any laws fully legalizing private property. The inference I draw is that official protection of private property is not essential in generating rapid development from low levels of income, and that China has had enough de facto protection of property to allow its private sector to grow rapidly from negligible levels to the predominant form of economic organization.
Despite limited official protection, houses, land, businesses, and corporate shares are privately bought and sold. Strong profit incentives encourage the formation of new businesses, investments in farms and companies, and improved productivity. Recent calculations indicate that the efficiency of China's economy improved at over 4 per cent per year since 1993, while the growth in capital per worker contributed an equal amount to its annual growth of 8.5 per cent in labor productivity. These are unprecedented achievements, especially when one recognizes too China's large improvements in output per worker during the 15 years prior to 1993.
I would qualify this very rosy picture in three ways. Studies indicate that long-term investments in agriculture have been discouraged by uncertainty among farmers about whether they can maintain possession of their land in the longer run. Numerous riots and other violent incidents have taken place in rural parts of China in protest against the forced expropriation of land by local governments that provide little compensation. Even the new law will not give farmers fully marketable rights over the land they now will own in principle but not fully in fact. City dwellers have also been increasingly concerned about the security of the ownership of their homes since they have faced expropriation of their land by city governments in need of land for other purposes. The new law states that compensation has to be offered for houses and land taken by governments, but is silent on how big the compensation should be,
I believe property rights that are much more secure than in the past are necessary to enable China to grow much further, and begin to join the club of higher income nations. The advanced economies that China would like to emulate protect software, patents, franchises, buyback provisions, complicated leases and property ownership clauses, and still other forms of tangible and intangible property. This protection is necessary if investment is to be encouraged in such forms of property that are increasingly important as an economy progresses.
Even with laws officially protecting private property of the type just passed, full protection requires an independent judiciary that enforces these laws in a reasonable and efficient way. Anglo-Saxon countries have been the best protectors of property rights in good part because that is how their legal systems operate. China lacks such a judiciary, and so enforcement of contracts of all types through the courts has not been guaranteed. Chinese courts are an arm of the central government, and have judges who do not even claim to be independent. Courts in China are known to be often arbitrary, which means that enforcement of laws and contracts is sometimes capricious.
If effectively implemented, the new law legitimatizing private property will have important implications for the future direction of the Chinese economy. That these implications are evolutionary rather than revolutionary is indicative of how far China has come from its socialist past

03/25/2007

One would have to know a great deal more about China than I do to be able to evaluate the law that the Chinese legislature has just approved ("Property Rights Law of the People's Republic of China," March 16, 2007, available in English translation at http://www.lehmanlaw.com/fileadmin/lehmanlaw_com/Laws___Regulations/Propoerty_Rights_Law_of_the_PRC__LLX__03162007_.pdf) codifying private (and also public) property rights. Law on the books often differs from law in action (the Soviet Constitution of 1936 is a famous example), and so the new law may turn out to have rather limited significance--or may not.
If property rights are understood in practical terms, then socialist and even communist countries invariably recognize and enforce some private property rights (as well as of course the property rights of public entities). For a property right is simply a right to exclude other people from the use of some thing of value. So a tenant has a property right, and even in a communist country if someone enters without your permission the apartment you've rented from the state you can get the police to eject him. Firms buy factories in China without worrying, or at least without worrying much, that other firms might hire thugs to seize or burn down the factories; the police would prevent that kind of private expropriation. Even in its heyday, socialism (as distinct from communism) connoted merely redistributive taxation and public ownership of a handful of major industries; most property was privately owned and the owners had the full panoply of legal protections of those rights. A socialist country such as the United Kingdom once was (though it was a distinctly watered-down socialism, despite the pretensions of the British Labour Party) might provide greater practical protection to rights of private property than a disordered capitalist state that had incompetent or corrupt judges and police.
The problem is less socialism versus capitalism than statism versus private ordering. The threat to private property in a statist country is that the government will expropriate it. Apparently a good deal of that goes on in China, with local Chinese governments taking farmers' land and selling or leasing it for industrial or urban development. A major aim of the new property law appears to be to curb this practice. But whether the aim will be achieved will depend on implementation "on the ground," as it were. As Oliver Wendell Holmes argued in his famous article "The Path of the Law," from the standpoint of a lawyer and his client the law is merely a prediction of what government will do to the client if he does some act. That the act may appear to violate a law is just the beginning of the predictive inquiry. If because judges and police are corrupt or incompetent or inaccessible nothing very bad will happen to the client if he does an act that may be illegal, he is likely to go ahead and do it. So maybe local governments in China will continue seizing farmers' property. In a country of more than a billion people that despite its rapid development is still poor, has a weak legal infrastructure, and is rife with corruption, it must be difficult to implement national laws at the local level. The new law may turn out to be largely aspirational.
But there is more to property law, including the new Chinese law, than limiting governmental expropriation of private property. Becker rightly emphasizes the importance of a well-functioning system of property rights to the growth of developed economies. In an underdeveloped economy, with economic activity largely local, family ties and reputational concerns may be such effective substitutes for legal enforcement of formal rights that the costs of such enforcement may exceed the benefits. Some economic activities do not require investment, such as hunting and the gathering of wild fruits, nuts, or berries, and so the function of a property-rights system of encouraging investment may be unimportant. And a country that consumes but does not produce intellectual property may be better off refusing to enforce intellectual-property rights. And finally a poor country may not be able to afford the kind of legal infrastructure required to enforce complex property rights. This can create a chicken and egg problem, if the absence of such rights keeps a nation so poor that it cannot afford the necessary machinery of enforcement.
A notable feature of the new Chinese law (which occupies 45 pages in the English translation that I cited) is its detailed provisions regarding secured lending. Enforceable security interests enable lower interest rates, facilitating borrowing and lending, essential activities in a modern economy. These and other provisions of the new law should reduce transaction costs and--to the extent enforced, a key and open question--enable China to continue its rapid economic growth.

03/18/2007

This past January 1, in his year-end report to Congress on the federal judiciary, which he heads, Chief Justice Roberts urged Congress to raise federal judicial salaries. They have not been increased (except for cost of living increases in some years), since a very large raise in 1991--from $89,500 to $125,100 for district judges (trial judges), and from $95,000 to $132,700 for circuit (appellate) judges. The current salaries are $165,200 and $175,100, respectively.
The chief justice's report is not analytical. It points out that federal judicial salaries have fallen in real (i.e., inflation-adjusted terms since 1969), but this is misleading because judicial salaries (cost of living increases to one side) are raised infrequently--and when they are raised, they are raised by a goodly amount. 1969, the base year picked by Chief Justice Roberts, was the year of a big raise (from $33,000 to $42,500 for circuit judges), and afterwards inflation ate away at the salary in real terms; and likewise after the next big raise, in 1991. As a result, in most years since 1969, federal judges' salaries have been lower in real terms than their current salaries.
What is true, however, as also pointed out in the report, is that federal judicial salaries are now well behind those of deans and professors at leading law schools, whereas they used to be comparable. And of course they are far behind the salaries of successful practicing lawyers. That has always been true, but a novel twist is that judicial salaries are now lower than first-year associates' salaries at New York law firms, when the associates' bonuses are included.
The chief justice's report states that the federal judiciary is facing a crisis because of the salary lag. It notes that 38 federal judges have left the bench in the last six years, and that 60 percent of newly appointed judges come from the public sector rather than from private practice, whereas the figure used to be only 35 percent.
To say that the wages in some job category are "too low" doesn't make much economic sense when one is talking about a job in the private sector. An employer who has trouble finding workers of the requisite skill and experience at the wage that he's offering will raise the wage. Even if there is an unanticipated demand for workers of a particular type, there will not be a "shortage"; the limited supply of workers will be allocated to the most urgent demanders, and other employers will substitute other inputs (including workers with less skill or experience) or curtail their output.
In the public sector, however, there is no automatic mechanism for equilibrating the supply of and demand for workers, so there may be shortages in particular jobs, and the existence of a shortage would be a signal that the legislature should raise the wages for those jobs. No such signal is being emitted in the judicial sector. There is not a shortage of applicants for federal judgeships, but instead an excess of applicants, as is true in many other government jobs (look how many people are running for President). But because there are no very definite criteria for appointment to a federal judgeship, there is a possibility that the queue for the jobs is dominated by low-quality applicants. Let us consider whether there is evidence of that.
Increased turnover could be a sign of job dissatisfaction due to a low wage. But has turnover increased? The Roberts report gets to the figure 38 by lumping in retirements with resignations. Federal judges (as I'm about to note) can when they reach retirement age (between 65 and 70 depending on their years of judicial service) either remain as senior judges, working part time, or retire, in which event they can take another job. The decision to retire is less likely to be motivated by dissatisfaction with salary than the decision to resign, and it also has less impact, since the alternative is continued service as a senior judge, normally part time. Resignations remain rare. Since the beginning of 2000, only 12 judges have resigned, out of a total of some 800. In the comparable six-year period 1969 to 1974, when there were only about 60 percent as many federal judges as there are now, 10 of them resigned, a higher percentage than in the last six years. Resignations of circuit judges are especially rare; there have been only 8 since 1981.
The most serious omission in Chief Justice Roberts's report is the other compensation that judges receive besides their salaries. Most judges who want to can teach a course or a seminar at a law school and receive another $25,000 in pay (the ceiling on outside income, apart from investment income and royalties, and a very low ceiling given current law school salaries‚Äîwhich benefits judges, since they can teach less to reach their ceiling, as it is an ever-diminishing percentage of a professor's salary). The federal judicial pension is extremely generous--a judge can retire at age 65 with only 15 years of judicial service (or at 70 with 10 years), and receive his full salary for life; nor does he make any contribution to funding the pension. The health benefits are also good. Above all, a judgeship confers very substantial nonpecuniary benefits. The job is less taxing than practicing law, more interesting (though this is partly a matter of taste), and highly prestigious. Judges exercise considerable power, not only over the litigants in the cases before them but also in shaping the law for the future, and power is a highly valued form of compensation for many people. Judges are public figures, even if only locally, to a degree that few even very successful lawyers are. And judges are not at the beck and call of impatient and demanding clients, as even the most successful lawyers are.
I do not mean to suggest that every successful practitioner would exchange his $1 million or $2 million (or greater) annual income for a judge's salary. But enough, out of a national population of a million lawyers, are willing to do so to enable the filling of vacancies in the federal courts, especially practitioners in their fifties who have built up a nice nest egg. So I do not think that the increased draw of new judges from the public sector is a function of salary lag. Partly it is due to the fact that the federal docket, especially at the district court level, is increasingly dominated by criminal, prisoner, and employment-discrimination cases, none of which are case categories particularly congenial to lawyers who have a commercial practice. Partly it is due to the fact that many highly competent lawyers prefer to work for government, for example as career prosecutors, rather than engage in private practice, so that competition from public-sector lawyers for judgeships is greater than it once was. And partly it is that ideology figures increasingly as a factor in federal judicial appointments, and both academics and career government lawyers are likely to have emitted clearer signs of ideological orientation than commercial practitioners.
Raising salaries would not do a great deal to attract commercial lawyers to judgeships. The lawyer who doesn't want to exchange a $1 million income for a $175,000 income is unlikely to exchange it for a $225,000 income--Roberts doesn't name a figure to which he thinks judicial salaries should be raised, but he can hardly expect Congress to raise salaries by more than 30 percent, and that only intermittently, so that inflation will eat away at the salary until the next jump. And one effect of raising judicial salaries would be to make the job a bigger patronage plum for ex-Congressmen, friends of Senators, and others with political connections, so that the average quality of the applicant pool might actually fall.
The best argument for raising judicial salaries, though not an argument that reflects well on the character of judges (but after all they're only people), is that people who have a great deal of discretion in their job, yet feel underpaid, may take their revenge by underperforming. If a judge works 2000 hours a year, so that his hourly fee is less than $90, and he feels indignant at being paid so little, he may decide to work fewer hours, delegating more work to staff, or to work the same number of hours but with less concentration, or to increase his nonpecuniary compensation by bullying the lawyers who appear before him. But this argument for raising judicial salaries is unlikely to receive a warm welcome from Congress.
But there is one compensation measure that is long overdue and could be effectuated at minimum cost to the federal fisc. That would be to introduce a cost of living differential. The cost of living differs very widely among different communities in the United States. Boston‚Äôs cost of living is 40 percent above the average for the nation; the cost of living in Kanakee, Illinois, is 12 percent below the average; and these are not the extremes. Modest cost of living differentials, constituting raises limited to high cost-of-living areas, for federal judges would go some distance toward remedying any perceived problem of judicial undercompensation.

Posner shows that salaries of federal judges are low compared to those of lawyers in private practice or academia, and judges' salaries have declined substantially over time relative to earnings of practitioners and law professors. This would imply that being a judge is now less attractive than in the past, but it does not imply that judges are underpaid. For one thing, the number of lawyers has increased greatly over time relative to the number of federal judges, so only a smaller fraction of the stock of good lawyers has to be attracted to the federal bench than in the past.
Underpaid jobs by definition have difficulty attracting and holding high quality workers. Posner's evidence indicates that resignation rates of federal judges are low, not high. It would be useful to know whether the quality of judicial opinions have declined over time, for that would be a way to determine whether the quality of judges has declined. One-way to measure whether quality has declined is to determine the trend in the frequency with which higher courts overturn the opinions of district and circuit judges, but that approach would have to hold constant both the difficulty of the cases and also the quality of the judges doing the overturning.
I believe that given Posner's discussion of judges' salaries, a high priority should be given not to adjusting their salaries, but to raising their pensions to induce more of them to retire before they are too old and have served 25, 30, or more years. Supreme Court Justices now serve an average of 26 years, and retire on average at age 80. I argued in an earlier post (see Becker, March 12, 2005) that lifetime tenure for Supreme Court Justices and federal judges is undesirable precisely because few judges resign. Low rates of resignations combined with large improvements in life expectancy mean that all federal judges, not just Supreme Court Justices, tend to stay on the bench for decades. The framers of the United States Constitution could not have foreseen the very large increases in tenure of judges when they stipulated that members of the Supreme Court would have lifetime tenure.
Judges who stay for decades run the risk of becoming isolated and out of touch with newer issues. Moreover, judges who are incompetent or lose their mental facilities can stay on for many years. Term limits for judges would be a good solution to such excessive tenure of many judges, but that would require a constitutional amendment for Supreme Court Justices, and would be politically difficult to implement for other federal judges. A different approach would be to employ the carrot instead of the stick, and use financial incentives to induce more judges to retire at reasonable ages. Posner indicates that judges already have generous pensions and health benefits, but their pensions can be made still more generous.
Suppose pensions were improved so that judges could retire after age 70, and/or after a certain number of years on the bench, at an annual pension that is 150 per cent of their salaries as active judges. A circuit judge would then receive about $250,000 per year if he retired and only $175,100 if he continues. That is likely to influence the retirement decisions of many judges. If a 50 percent retirement premium were too weak an incentive, the premium could be made larger. The financial burden on the federal budget of even large increases in the pensions of judges would be minor since judicial salaries are a tiny fraction of the budget.
Another way to encourage earlier retirement of judges would be to offer them several years of income as a bonus if they retire at say age 70, or after 15-20 years or so of service. Bonuses to encourage professors to retire were introduced by many universities after a federal law in the early 1990's prevented these institutions from forcing professors to retire. Data for the University of Chicago and other universities suggest that some 30 per cent of professors who reach their sixties accept a bonus of about two years salary plus medical benefits to retire then.
For most occupations it would not be wise to have pensions that are multiples of salaries. But judges are unusual since they have de facto lifetime tenure, and many of them do continue to serve for many decades until they are in their late 70's or 80's. Very high retirement pensions for federal judges seem to be a good way to induce them to retire at reasonable ages and lengths of tenure.

03/12/2007

David Cameron, the leader of the Conservative Party, set off a considerable debate in Great Britain on marriage when he recently claimed "Families come in all shapes and sizes and they all need support [because]‚Ä¶married couples stay together longer. Therefore, there is a very strong case for supporting marriage [in the tax system]. Children do better if their mother and father are both there to bring them up". The Bush administration is also very pro-marriage, and in the past has considered using the tax code to encourage marriage.
Virtually all studies show that children brought up in intact families do better at school, and have fewer drug and delinquency problems, than do children whose parents divorced or never married. However, that evidence alone does not tell us whether or not children of divorced parents would have done poorly even if their parents had stayed together, perhaps because parental fighting creates an unpleasant atmosphere. Good evidence on the effects of divorced parents on children is much more elusive, but the limited material available confirms that divorce makes children worse off. This is partly because one-parent families have less money and time to spend on children, and because these families tend to live in worse neighborhoods. Moreover, the process of witnessing parents going through a divorce may also harm children.
A little evidence also indicates that being brought up only by mothers is harder on boys than girls, probably because boys benefit more when their fathers live with them. Since single mother families are so common among blacks, this finding has been used to help explain why young African-American males do a lot worse than young African-American females in school performance, delinquency, and on many other measures. Different outcomes between boys and girls of growing up in families without fathers suggest that this rather than which parents continue to live together is what harms children.
Even if having two parents in a household is beneficial to children, it is far from clear whether marriage per se benefits children compared to having parents who live together without being married. A further question is whether all two parent households, or only households with two biological heterosexual parents, benefit children? The statement by Cameron at the beginning of my discussion says that 'families come in all sizes and shapes and they all need support'. I am persuaded that children raised by two gays or lesbians do worse than children raised by heterosexual parents, although the evidence is far too limited to be certain about this.
The tax code of the United States require joint filing by married couples. This imposes higher taxes on couples when both work than if they were single partly because two low-income earners who marry might have too much income to qualify for the earned income tax credit, and would receive less if they do qualify. The progressive tax structure also penalizes two earner married couples, especially when their earnings are similar. Hundreds of other provisions also impose a marriage penalty, although they are mainly minor ones, while many provisions give small subsidies to married couples when only one of them works.
Any tax penalty imposed on two earner married couples has become more important during the past several decades because these couples are much more common. An obvious solution to a marriage penalty from joint filing would be to require, or at least allow, married couples to file separately and split their incomes. Separate filing is now the norm in virtually all other member countries of the OECD.
Subsidies to marriage could be easily implemented by allowing larger per person standard deductions to married couples than to single persons, but it is not obvious that the tax code should be manipulated to try to alter these family arrangements. Arguments based on the external effects of parental divorce and other separation decisions on children are often not applicable because the vast majority of parents do love their children. These parents take account of their children's interests in deciding whether to separate, and in their other decisions. Mainly for this reason, all countries leave the care of children to parents, except in extreme cases of neglect by parents.
Moreover, since justifications for marriage subsidies based on the positive effects of marriage on young children would not apply to couples without children, or with grown children, should subsidies be given to such families? Furthermore, suppose it were shown conclusively, the available evidence is mixed, that young children are worse off when both parents work. I doubt if there would then be much support for additional taxes on two-earner families, although the logic of doing this is the same as that for providing marriage tax subsidies.
Explicit marriage subsidies (or penalties) ,or taxes on two-worker families, will not have large effects on either marriage or the number of married couples where both work unless the subsidies (or penalties) were much bigger than would be politically feasible. But even if the tax system could be used effectively in these ways, it involves too much social engineering over choices by adult men and women. Except in extreme cases of child abuse and neglect where parental choices have sizable external effects on children, government interventions in family decisions tend to cause more harm than do good.

I agree with Becker that marriage should not be subsidized. The primary concern motivating proposals for a marriage subsidy is that children do better if they are raised in a household in which there are two parents. (It is an open question whether it makes a big difference whether the two parents are of the same or different sexes. My guess is that only if having parents of the same sex leads the child to be ridiculed by other children are children raised in homosexual households highly likely to suffer, and the more common such households become, the less ridicule there will be.) I assume it is true that children benefit from being raised in a household with two parents, but this point argues not for subsidizing marriages, many of which are childless (or the children are grown), as Becker notes, but for penalizing divorce or (if the parents are unmarried) separation (including deliberate single-parenthood).
Penalizing divorce, presumably limited to cases in which the divorcing couple has minor children, could operate as either a tax on or a subsidy of marriage: a tax because it would increase the cost of exit, but a subsidy because by increasing the cost of exit it would provide more security to each spouse. It is unclear which effect would predominate, and therefore it is unclear whether the amount of cohabitation would rise or fall relative to marriage whether or not there was also a penalty for dissolving a cohabitation when there were minor children.
I do not think there should be either a marriage tax or a marriage penalty. We are speaking here of Pigouvian taxes‚Äîthat is, taxes designed to alter behavior rather than to raise revenue for government. The principal effect of a tax on or subsidy of marriage is likely to be to induce substitution of cohabitation for marriage, in the case of the tax, or of marriage for cohabitation, in the case of the subsidy. When an activity has a close substitute, the principal effect of a tax on the activity is to induce substitution for the taxed activity, and in the case of a subsidy to induce substitution of the subsidized activity. It seems unlikely that the decision to have children as a couple or as a single parent, or to stay together with the other parent after children are born and until they become adults, is strongly affected by the precise legal form of the relationship. Given no-fault divorce and the declining stigma of nonmarital sex, the practical difference between marriage and purely contractual forms of family relationship has shrunk to a point at which tinkering with the marriage rate through taxes or subsidies seems unlikely to produce social gains. Of course, a heavy tax on cohabitation (perhaps in the form of a heavy separation tax) would drive couples to marry--but an effect of taxing both divorce and separation might be to reduce the birthrate. This is not certain, however, because each spouse would have greater assurance that the other spouse would remain part of the household, to help take care of the children either through personal services or financially; and this assurance would increase the willingness to have children.
Of course even if there were an exact contractual substitute for marriage, as in domestic partnership laws in force in some states and some foreign countries, many people would have strong religious, moral, or sentimental reasons to prefer marriage to the contractual substitute, and a few people would have strong moral or political reasons to prefer the contractual substitute. These preferences should be honored. But it is not clear why the legal, including tax and subsidy, consequences of the choice should differ.
A serious social problem is created by the practice of some poor women of having children with no expectation that the father will participate in the support or upbringing of the children, but instead with the expectation that the government will support them. The practice--in which the role of government becomes that of financial father of children born out of wedlock--nurtures criminality and perpetuates poverty. Subsidizing the production of children by persons who because they are poor single parents lack the resources to support their children properly is highly dubious social policy. Welfare reform has reduced the problem but not eliminated it. Whatever the solution, it is unlikely to be a marriage subsidy. A man who does not want to be married and support children will marry if marriage is subsidized but will divorce or abandon his wife after pocketing the subsidy. To prevent this gaming of the marriage subsidy would require costly and probably futile enforcement efforts by the government.
David Cameron, the Tory leader, whom Becker mentions, bases his pro-marriage policy on the following sentiment: "There's something special about marriage. It's not about religion. It's not about morality. It's about commitment. When you stand up there, in front of your friends and your family, in front of the world, whether it's in a church or anywhere else, what you're doing really means something. Pledging yourself to another means doing something brave and important. You are making a commitment. You are publicly saying: it's not just about me, me me anymore. It is about we--together, the two of us, through thick and thin. That really matters." But more than 40 percent of British marriages end in divorce, suggesting that the public commitment involved in a wedding ceremony doesn't have much sticking power. True, the number of cohabitations that end in separation is surely much higher, but many of them are entered into with no expectation of permanence. So far as I am aware, those cohabitations that are entered into with such an expectation are no more (or perhaps not much more) likely to end in separation than marriages are to end in divorce.

03/04/2007

The choice of a college or a professional or graduate school to attend is of course an important one, and also a difficult one because of the great differences across colleges and universities in prestige, programs, facilities, faculty, amenities, location, and expense. Most of these differences translate into differences in the value of attendance at a particular school to the student. It is easy enough to determine whether the school has nice facilities and a charming location, but difficult to determine what contribution attending it will make to one's human capital, which is the principal product of education. As a result, education, including higher education, is what economists call a "credence" product, in the sense that its value cannot be determined by inspection or other reliable means before purchase, but must, in a broad sense, be taken on faith in the producer.
One might think that because most colleges and universities (for the sake of brevity, I'll generally use "college" to refer to any institution of higher education) are nonprofit institutions, they can be trusted to be candid in their marketing, but that notion is na√Øve. Institutions of higher education are highly competitive, and if anything less scrupulous in their marketing than commercial sellers, because less subject to legal sanctions for misleading advertising (it is harder to prove that one's college experience did not "work" than that the camera one bought didn't work) and because of the illusion of moral and intellectual superiority to which college faculty and administrators can easily succumb. Concern with reputation cannot be relied upon to keep colleges from making exaggerated claims of their "value added," because it is very difficult for the graduates to determine, even after a lifetime, how much of their human capital is due to their college experience. There is some market control, however. In particular, colleges that depend very heavily on alumni donations have stronger incentives than colleges that do not to avoid exaggerated claims that may cause disillusionment on the part of students after they graduate.
The combination of credence goods and unreliable sellers (in the sense of sellers not adequately deterred by legal or reputational concerns from engaging in misleading marketing efforts) produces a demand for third-party evaluations, on the model of Consumers Reports. In the case of higher education, the traditional evaluations provided by high-school guidance counselors (and by college professors and college guidance counselors with respect to professional and graduate schools) has now been supplemented by the rankings published annually by U.S. News & World Report since 1983. These rankings are at once influential and (among academics and academic administrators) controversial.
The rankings raise several interesting economic questions: the effect of rankings on information costs, in general and with particular reference to higher education; the manipulability of rankings by the colleges themselves; the effect of the rankings on education; and why U.S. News & World Report's annual rankings, though fiercely criticized by prominent universities (such as Stanford), face little competition. (There are, however, some competing ranking systems, particularly for business schools.)
There is a tradeoff in communications between information content and what I'll call absorption cost. Ranking does very well on the latter score--a ranking conveys an evaluation with great economy to the recipient; it gives the recipient an evaluation of multiple alternatives (in this case, alternative schools) at a glance. But a ranking's information content often is small, because a ranking does not reveal the size of the value differences between the ranks. One reason that disclosing the ranks of students has lost favor at elite colleges is that meritocratic standards for admission from a large applicant pool tend to create a student body most of which is rather homogeneous with respect to quality. The quality difference between number 1 and number 2, or between the top 10 and the bottom 10, may be very great, but the quality difference between number 100 and number 200 may be small, at least relative to the appearance created by such a large rank-order difference.
The information content of college rankings, as in the case of U.S. News & World Report's rankings, is particularly low because these are composite rankings. That is, different attributes are ranked, and the ranks then combined (often with weighting) to produce a final ranking. Ordinarily the weighting (even if every subordinate ranking is given the same weight) is arbitrary, which makes the final rank arbitrary. U.S. News & World Report ranks 15 separate indicators of quality to create its composite ranking of colleges.
The rankings, moreover, are manipulable by the schools, depending on the attributes that are ranked. A common attribute is the ratio of applications to acceptances. Both components of the ratio are manipulable--the number of applications by injecting a random element into acceptances, so that students who do not meet the normal admission criteria nevertheless have a chance of admission, which may motivate them to apply; and the number of acceptances by rejecting high-quality applicants who seem almost certain to be admitted by (and to accept) a higher-ranking school.
The effect of college ranking on the education industry is unclear, but my guess is that it is negative. The principal information conferred, given the information limitations of ranking in general and composite ranking in particular, is simply the rank of the college. But that is important to students (and their parents). And rightly so. Given the high costs of actually evaluating colleges, employers and even the admissions committees of professional and graduate schools are likely to give weight to a school's rank, and this will give applicants an incentive to apply to the highest-ranking school that they have a chance of being admitted to (if they can afford it). The result will be to increase the school's rank, because SAT scores and other measures of the quality of admitted students are an important factor in a college's ranking. That increase in turn will attract still better applicants, which may result in a further boost in the school's rank. The result may be that a school will attract a quality of student, and attain a rank, that is disproportionate to the quality of its teaching program. As a result, the value added by the college experience may be smaller than if rank were based solely on the quality of the college's programs, and so the students are getting less for their money than they could elsewhere. However, this conclusion must be qualified in the following important respect: the clustering of the best students at a handful of highly ranked schools may, regardless of the quality of the schools' programs, contribute to the human capital formation of these students by exposing them to other smart kids and embedding them in a valuable social network of future leaders. This may be a significant social as well as private benefit.
A final question is why, given the imperfection of U.S. News & World Report's college ranking system, yet the boost that publishing its rankings has given the magazine's circulation, no significant competitor has appeared on the scene, at least for the magazine's college and law school rankings (the latter are particularly influential). I conjecture that the market for other commercial rankings system for colleges would be weak, because the publisher of a new system could not make a convincing case that the new system was better than the established one. It could not do that because the quality of a ranking system is even more difficult to evaluate than the quality of the education provided by a given college. College applicants and their parents would thus have little incentive to consult the second system.

Rankings of educational programs, hospitals, physicians, cars, and other goods and services have become increasingly popular during the past 20 years. There is a robust market for various rankings because of the difficulty students, patients, and other consumers have in getting sufficient information about the numerous attributes being offered, such as quality of other students and faculty, size of classes, earnings of graduates, or mortality rates of hospital patients. I believe that on the whole rankings convey useful information about quality, although there are obvious problems in getting reliable rankings.
Perhaps the most serious problem with rankings is that institutions "game the measure". So if the ratio of admissions to acceptances were used, then as Posner indicates, schools might tend to admit applicants who do not have good alternatives. If hospitals are ranked partly by the death rate among patients, then hospitals have an incentive to shy away from admitting terminally ill patients, or those with difficult-to cure conditions. Yet schools and other organizations respond to their ranking position not only by gaming the measure, but also by improving what they provide. In this way, some business schools and colleges ranked low in the amenities and other characteristics of the learning experience provided students have responded by improving physical facilities and the guidance offered to students, reducing class size, and increasing networking. The issue in determining whether measures have on balance positive or negative value to consumers is whether the good information provided exceeds the misleading information, due in part to "gaming".
The difficulty for consumers is that not only do colleges, business schools, and hospitals provide credence products, but also that there is little or no repeat business since students do not go to the same college more than once, and few patients have multiple spells in the same hospital. Still, applicants to colleges (and/or their parents), and sick persons choosing hospitals tend to recognize that institutions have an incentive to game the measure. That weakens the quantity of information they believe they get from rankings based on particular measures, but it does not generally make the information worthless.
Any conclusion that rankings make the information available to consumers worse does not do justice either to the difficulty of making sensible decisions about education programs and medical help in the absence of ranking information, nor to the competitive search for different criteria to use in rankings of schools and medical care. A more accurate conclusion would be that the great interest in rankings, and the rapid expansion in the number of magazines, newspapers, and non-profit groups that provide rankings of schools, hospitals, doctors, and other goods and services suggests strongly that consumers believe they do get useful information from rankings. How much information they get varies with their access to other information.
Those profit and non-profit organizations that provide rankings compete by emphasizing different criteria. For example, the several newspapers and magazines that rank MBA programs weight differently evaluations of business recruiters, earnings of graduates, the increase in earnings of graduates compared to what they earned before enrolling, the amenities provided, the research of faculty, the attention to globalization issues, and so on. That rankers compete by using different criteria and weightings strongly suggests that significant numbers of applicants to schools consider how rankings are determined.
To be sure, there are ways to improve the basis of rankings that make them less vulnerable to gaming by the institutions being ranked (see the discussion of hospital rankings in Mark McClellan and Douglas Staiger, "Comparing the Quality of Health Care Providers", and other papers by these authors). For example, MBA programs can be compared not by earnings of graduates, but by the increase in earnings of graduates compared to what they earned before entering an MBA program. This shift in the earnings measure would help control for the quality of students in a program (the Financial Times' rankings of MBA programs are based partly on this measure of value added). To help determine what benefits students actually get from an MBA program or college, one should not only interview current students, but also those who graduated 3, 5, or 10 years ago. After several years of working or additional study, the effects of attempts to influence student evaluations through superficial amenities should have been replaced by a consideration of longer-term benefits.
The obvious interest in rankings by consumers suggests that they consider the rankings of schools and programs, or health care, or automobiles to be valuable. These rankings can be, and are being improved, but that they have survived the test of the marketplace indicates that consumers believe they are useful enough to be willing to pay for them.